- Century Bonds involve issuing debt to be paid back over one hundred years
- The UNC system is considering using Century Bonds to finance capital needs
- It makes little financial sense to assume debt for a building that will likely be torn down before it is paid off
A daunting fact hangs over the University of North Carolina System: A high percentage of UNC buildings built in the 1960s – or earlier – are in need of replacement or repair. In hopes of saving money, North Carolina – like many other states – succeeded in putting off maintenance and renovation projects. It can’t be done any longer. UNC-Chapel Hill officials estimate it needs approximately $650 million to address needed repairs and renovation projects. The same list at NC State University totals $540 million.
Aging campus buildings, backlogged maintenance projects and increased competition for state dollars are several reasons why last week the UNC Board of Governors heard a presentation on an alternative way of financing campus capital needs – Century Bonds. Access UNC Board of Governors Century Bond materials here and here
Century Bonds are a relatively new way for colleges to obtain needed capital for building projects. In theory, they have advantages. Century Bonds can often lock in lower interest rates, thereby saving money in the long run. Century Bonds allow a system or campus to serve as its own banker and provide capital for the university to distribute as needed.
The biggest selling point for Century Bonds, however, is the maturity date: 100 years. That’s right, 100 years. Supporters say Century Bonds can be used to create equity-like capitalization at low long-term rates to meet ongoing capital needs. Companies such as Coca-Cola and Walt Disney have used Century Bonds to help finance capital needs. Now educational institutions such as Ohio State, MIT, and the University of Southern California are using Century Bonds.
Does it make sense for the UNC to do so? The answer is no.
To be sure, Century Bonds can look appealing, especially when you’re in an environment that needs hard dollars – now – and the funding model has collapsed. All alternatives look better when the situation is bleak.
But let’s take a deep breath. Century Bonds violate one of the cardinal rules of finance: never finance the price of an asset past its likely life span.
No financial planner or money manager would advocate that an individual ever finance debt in such a way. Why is it then advisable for educational institutions to do so?
Sure, Century Bonds allow institutions to spread out the costs of borrowing over 100 years. Century Bonds may even allow borrowers to lock in lower rates than what they would have normally achieved. But ultimately you have to ask the question: Does it make any sense to finance a building with a life span of 50 or 60 years for 100 years?
You’re essentially saddling the financing costs onto a generation that will not be able to enjoy any of the benefits of the building – only the costs. Would anyone recommend financing a car over 50 years, when the reality is that after fifteen or twenty years there is little chance the car will still be on the road? Asking future taxpayers to pay the costs of assets enjoyed by a previous generation is unwise, irresponsible and a certain route to fiscal perdition.
Proponents of Century Bonds say one of their main advantages is that it gives the university more flexibility in how money is used. But those “advantages” can quickly backfire.
But this tactic only diverts attention from the problem. The problem is especially present in the K-12 world. Los Angeles and other large districts are using bond money to finance short-term tech projects like its 1to1 iPad initiative. The worry is that districts will be paying off the devices long after they have become obsolete and been discarded.
That doesn’t sit well with many – especially when people think money is being used for a building, when it’s not. The temptation to use bond money for competing priorities will always be there.
Looking at the history of states that have financed capital costs for colleges and universities is not encouraging. Funding has been inconsistent – even in good times and money for maintenance and repairs has seldom been enough to meet the actual needs. The UNC System managed to defer investing in maintenance and renovations even in good economic times, a practice that has certainly contributed to the magnitude of the current crisis. For additional information on the history of deferred maintenance in the UNC System, see: The Cost of Doing Nothing.
There are other compelling reasons why Century Bonds aren’t the solution to UNC’s capital financing problem. The first of these is that not all institutions are eligible for Century Bonds. Century Bond financing is for institutions with high credit ratings, stable finances, healthy enrollments; in other words, flagship institutions that will likely be around years from now and are not likely to experience significant changes in the years ahead.
In the UNC System, the two likely candidates for Century Bonds are UNC-Chapel Hill and NC State University. The last time I checked, however, the UNC System had 17 campuses and the problem of financing capital projects extended to all campuses.
Century Bonds don’t make sense for a lot of institutions. It’s a risky bet to assume that some schools are going to be around in one hundred years, that the system will still be in a position to pay off its obligations, and that state-run higher education will even be functioning in the same way.
Century Bonds may not be a bad bet for some strong schools, but the majority of institutions are still subject to the vagaries of demographic, economic and societal trends. In addition, when institutions become their own banker, they will likely be more concerned about revenue generated and repayment schedules. The question then becomes: Will Century Bonds affect which buildings get financed and how programs are administered?
Finally, Century Bonds are not the solution to UNC’s capital needs problem because they will likely result in additional student debt fees and drive up even further the costs of attending public colleges and universities in North Carolina.
Under current cost models, debt is not included in tuition, but still comes out of students’ and parents’ wallets because debt service charges are included in the fees charged by each UNC campus. Most of this debt is for revenue-generating services such as dining halls, student unions and dorms.
As you might expect, debt service levels for nearly all institutions have risen dramatically in recent years. At North Carolina State University, debt service fees increased from $42.55 in 2004-05 to $524.50 in 2014-15. Likewise over the same period, the same figures increased from $272 to $707 at UNC- Greensboro and from $115 to $460 at Winston Salem State University. The only UNC campus that did not experience a significant increase in debt service fees over the period was UNC-Chapel Hill, whose fees increased from $180 in 2004-05 to $185.85 in 2014-15.
For the overwhelming majority of institutions, Century Bonds will likely result in more student fees and ultimately higher tuition – simply because costs need to be paid. Again, it’s hard to think these realities won’t change how universities operate. The added debt is acceptable assuming institutions are growing and revenue is growing. But what if the institution is not? If revenues are stagnant and enrollment is declining, then what?
UNC has a building problem. It’s compounded by too many aging buildings, inconsistent state support and an outdated funding model. Century Bonds give some institutions flexibility, but there is nothing redeeming about having taxpayers and others pay for buildings years after the structures have become outmoded or been torn down. Nor is there anything redeeming about adding to the already high cost of a college education. Asking the legislature to allow UNC institutions to finance buildings over 100 years is appealing to some in the short run but unwise in the long run.
Yes, UNC has a building problem. Century Bonds, however, will only make the problem worse. They are a temptation that should be resisted.
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